This page intentionally left blank KRUGMAN’S MACROECONOMICS for AP* *AP is a trademark registered and/or owned by the College Board, which was not involved in the production of, and does not endorse, this product Cover photo credits First row: Making American toys: Feng Li/Getty Images; Euro Disneyland: Picture Partners/Alamy; Currency exchange house, México: Keith Dannemiller/Alamy; Bridge: PhotoDisc; Second row: Trading floor: Image Source; Girl with purple scarf: PhotoDisc; Tokyo: Tom Bonaventure/ Photographer’s Choice RF /Getty Images; Double-decker bus: Flat Earth Images; Third row: Flags: PhotoDisc; Tomatoes: Royalty-Free/Corbis; Jean shopping: Getty Images/Somos; Windmills: Photodisc/Getty Images; Fourth row: Engineers: PhotoDisc; House building: Photodisc; Tugboat: Flat Earth Images; Cows: Stockbyte; Fifth row: Job search: Freefall Images/Alamy; Coffee: Getty Images; Red Prius: iStockphoto; Oil wells: iStockphoto “The TLC Taxi Medallion” is a registered trademark of the City of New York All rights reserved Director, BFW High School: Craig Bleyer Executive Editor: Ann Heath Development Editor: Rebecca Kohn Senior Consultant: Andreas Bentz Assistant Editor: Dora Figueiredo Executive Marketing Manager: Cindi Weiss Art Director: Babs Reingold Cover Designer: Lissi Sigillo Interior Designer: TSI Graphics Photo Editor: Cecilia Varas Photo Researcher: Dena Digilio Betz Associate Managing Editor: Tracey Kuehn Project Editor: Kerry O’Shaughnessy Production Manager: Barbara Seixas Composition: TSI Graphics Printing and Binding: RR Donnelley Library of Congress Control Number: 2010906980 ISBN-13: 978-1-4292-5730-5 ISBN-10: 1-4292-5730-X © 2011 by Worth Publishers All rights reserved Printed in the United States of America First printing, 2010 Worth Publishers 41 Madison Avenue New York, NY 10010 www.bfwpub.com/highschool KRUGMAN’S MACROECONOMICS for AP* Margaret Ray and David Anderson University of Mary Washington Centre College Adapted from Macroeconomics, Second Edition by Paul Krugman and Robin Wells *AP is a trademark registered and/or owned by the College Board, which was not involved in the production of, and does not endorse, this product WORTH PUBLISHERS/BFW To beginning students everywhere, which we all were at one time This page intentionally left blank About the Authors Margaret Ray is Professor of Economics at the University of Mary Washington, where she specializes in teaching introductory economics She received her BS in Economics from Oklahoma State University and her PhD in Economics from the University of Tennessee Her research is primarily in the areas of economic education and equine industry economics In 2003 she taught AP Economics at Collegiate School in Virginia Ray received the National Council on Economic Education’s Excellence in Teaching Economics award in 1991 She has been involved in the AP Economics program since 1992, serving as a reader and question leader, writing test items, overseeing the AP course audit, writing College Board “Special Focus” articles, and contributing activities to the National Council on Economic Education’s AP Economics resource She has been a College Board Endorsed Consultant for economics since 2001 and she conducts several professional development workshops and institutes each year She currently serves on the Steering Committee for the College Board’s AP National Conference David Anderson is the Paul G Blazer Professor of Economics at Centre College He received his BA in Economics from the University of Michigan and his MA and PhD in Economics from Duke University Anderson is a leading authority on AP Economics and speaks regularly at the National AP Economics Teacher Conference, the National AP Conference, and regional AP Economics workshops He has authored dozens of scholarly articles and ten books, including Cracking the AP Economics Exam, Favorite Ways to Learn Economics, Environmental Economics and Natural Resource Management, Contemporary Economics for Managers, Treading Lightly, and Economics by Example His research is primarily on economic education, environmental economics, law and economics, and labor economics Anderson teaches courses in each of these fields and loves teaching introductory economics He lives in Danville, Kentucky with his wife and two children Supplements Team Eric Dodge Teachers Resource Binder, Test Bank Eric is Professor of Economics and Business Administration at Hanover College in Indiana He received his BA from the University of Puget Sound and his MA and PhD from the University of Oregon Eric has been involved with AP Economics for more than ten years and has served as reader, table leader, and question leader vi Paul Krugman, recipient of the 2008 Nobel Memorial Prize in Economics, is Professor of Economics at Princeton University, where he regularly teaches the principles course He received his BA from Yale and his PhD from MIT Prior to his current position, he taught at Yale, Stanford, and MIT He also spent a year on the staff of the Council of Economic Advisers in 1982–1983 His research is mainly in the area of international trade, where he is one of the founders of the “new trade theory,” which focuses on increasing returns and imperfect competition He also works in international finance, with a concentration in currency crises In 1991, Krugman received the American Economic Association’s John Bates Clark medal In addition to his teaching and academic research, Krugman writes extensively for nontechnical audiences Krugman is a regular op-ed columnist for the New York Times His latest trade book, The Conscience of a Liberal, is a best-selling study of the political economy of economic inequality and its relationship with political polarization from the Gilded Age to the present His earlier books, Peddling Prosperity and The Age of Diminished Expectations, have become modern classics Robin Wells was a Lecturer and Researcher in Economics at Princeton University She received her BA from the University of Chicago and her PhD from the University of California at Berkeley; she then did postdoctoral work at MIT She has taught at the University of Michigan, the University of Southampton (United Kingdom), Stanford, and MIT The subject of her teaching and research is the theory of organizations and incentives David Mayer Strive for a 5, Lecture PowerPoint Presentations Dave teaches at Churchill High School in San Antonio, Texas He received a BA in Economics from Texas A&M University and earned his MA at University of Texas, San Antonio He has been teaching the AP Economics course since 2004, and began working as an AP Economics reader and then table leader in 2006 Dave is a College Board Endorsed Consultant for economics and he conducts several professional development workshops and institutes each year He is the author of The Everything Economics Book published by Adams Media in 2010 David lives in San Antonio with his wife Courtney and children Caty and Colin vii Brief Contents Section Basic Economic Concepts Module Module Module Module Appendix The Study of Economics Introduction to Macroeconomics The Production Possibilities Curve Model Comparative Advantage and Trade Graphs in Economics Section Supply and Demand Module Module Module Module Module Supply and Demand: Introduction and Demand Supply and Demand: Supply and Equilibrium Supply and Demand: Changes in Equilibrium Supply and Demand: Price Controls (Ceilings and Floors) Supply and Demand: Quantity Controls Section Measurement of Economic Performance Module 10 Module 11 Module 12 Module 13 Module 14 Module 15 The Circular Flow and Gross Domestic Product Interpreting Real Gross Domestic Product The Meaning and Calculation of Unemployment The Causes and Categories of Unemployment Inflation: An Overview The Measurement and Calculation of Inflation Section National Income and Price Determination Module 16 Module 17 Module 18 Module 19 Module 20 Module 21 Income and Expenditure Aggregate Demand: Introduction and Determinants Aggregate Supply: Introduction and Determinants Equilibrium in the Aggregate Demand— Aggregate Supply Model Economic Policy and the Aggregate Demand—Aggregate Supply Model Fiscal Policy and the Multiplier Section Financial Sector Module 22 Module 23 viii 10 16 23 34 47 48 59 71 77 88 Module 24 Module 25 Module 26 Module 27 Module 28 Module 29 Section Inflation, Unemployment, and Stabilization Policies Module 30 Module 31 Module 32 Module 33 Module 34 101 Module 35 102 112 The Time Value of Money Banking and Money Creation The Federal Reserve System—History and Structure The Federal Reserve System—Monetary Policy The Money Market The Market for Loanable Funds Module 36 Long-run Implications of Fiscal Policy: Deficits and the Public Debt Monetary Policy and the Interest Rate Money, Output, and Prices in the Long Run Types of Inflation, Disinflation, and Deflation Inflation and Unemployment: The Phillips Curve History and Alternative Views of Macroeconomics The Modern Macroeconomic Consensus 118 126 134 142 Section Economic Growth and Productivity 157 Module 40 Module 37 Module 38 Module 39 158 172 179 190 199 209 221 Saving, Investment, and the Financial System 222 Definition and Measurement of Money 231 Long-run Economic Growth Productivity and Growth Growth Policy: Why Economic Growth Rates Differ Economic Growth in Macroeconomic Models 237 243 253 262 268 277 295 296 307 315 321 331 343 355 367 368 376 387 398 Section The Open Economy: International Trade and Finance 409 Module 41 Module 42 Module 43 Module 44 Module 45 410 421 431 437 443 Capital Flows and the Balance of Payments The Foreign Exchange Market Exchange Rate Policy Exchange Rates and Macroeconomic Policy Putting it All Together Solutions to AP Review Questions Glossary Index S-1 G-1 I-1 GLOSSARY disinflation the process of bringing down inflation that has become embedded in expectations (p 139) disposable income income plus government transfers minus taxes; the total amount of household income available to spend on consumption and saving (p 105) diversification investment in several different assets with unrelated, or independent, risks, so that the possible losses are independent events (p 225) economic aggregates economic measures that summarize data across different markets for goods, services, workers, and assets (p 5) economic growth an increase in the maximum amount of goods and services an economy can produce (p 13) economics the study of scarcity and choice (p 2) economy a system for coordinating a society’s productive and consumptive activities (p 2) efficiency wages wages that employers set above the equilibrium wage rate as an incentive for workers to deliver better performance (p 130) efficient describes a market or economy that takes all opportunities to make some people better off without making other people worse off (p 17) employed people currently holding a job in the economy, either full time or part time (p 119) employment the total number of people currently employed for pay in the economy, either full-time or part-time (p 12) entrepreneurship the efforts of entrepreneurs in organizing resources for production, taking risks to create new enterprises, and innovating to develop new products and production processes (p 3) equilibrium an economic situation in which no individual would be better off doing something different (p 66) equilibrium exchange rate the exchange rate at which the quantity of a currency demanded in the foreign exchange market is equal to the quantity supplied (p 423) equilibrium price the price at which the market is in equilibrium, that is, the quantity of a good or service demanded equals the quantity of that good or service supplied; also referred to as the market-clearing price (p 66) equilibrium quantity the quantity of a good or service bought and sold at the equilibrium (or market-clearing) price (p 66) excess reserves a bank’s reserves over and above the reserves required by law or regulation (p 249) exchange market intervention government purchases or sales of currency in the foreign exchange market (p 432) exchange rate the price at which currencies trade, determined by the foreign exchange market (p 421) exchange rate regime a rule governing policy toward the exchange rate (p 431) expansion period of economic upturn in which output and employment are rising; most economic numbers are following their normal upward trend; also referred to as a recovery (p 10) expansionary fiscal policy fiscal policy that increases aggregate demand by increasing government purchases, decreasing taxes, or increasing transfers (p 205) expansionary monetary policy monetary policy that, through the lowering of the interest rate, increases aggregate demand and therefore output (p 310) exports goods and services sold to other countries (p 105) factor markets where resources, especially capital and labor, are bought and sold (p 103) federal funds market the financial market that allows banks that fall short of reserve requirements to borrow funds from banks with excess reserves (p 263) federal funds rate the interest rate at which funds are borrowed and lent in the federal funds market (p 263) fiat money a medium of exchange whose value derives entirely from its official status as a means of payment (p 234) final goods and services goods and services sold to the final, or end, user (p 106) financial asset a paper claim that entitles the buyer to future income from the seller Loans, stocks, bonds, and bank deposits are types of financial assets (p 224) G-3 financial intermediary an institution, such as a mutual fund, pension fund, life insurance company, or bank, that transforms the funds it gathers from many individuals into financial assets (p 227) financial markets the banking, stock, and bond markets, which channel private savings and foreign lending into investment spending, government borrowing, and foreign borrowing (p 105) financial risk uncertainty about future outcomes that involve financial losses and gains (p 225) firm an organization that produces goods and services for sale (p 103) fiscal policy the use of taxes, government transfers, or government purchases of goods and services to stabilize the economy (p 176) fiscal year the time period used for much of government accounting, running from October to September 30 Fiscal years are labeled by the calendar year in which they end (p 300) Fisher effect the principle by which an increase in expected future inflation drives up the nominal interest rate, leaving the expected real interest rate unchanged (p 283) fixed exchange rate an exchange rate regime in which the government keeps the exchange rate against some other currency at or near a particular target (p 431) floating exchange rate an exchange rate regime in which the government lets the exchange rate go wherever the market takes it (p 431) foreign exchange controls licensing systems that limit the right of individuals to buy foreign currency (p 433) foreign exchange market the market in which currencies are traded (p 421) foreign exchange reserves stocks of foreign currency that governments can use to buy their own currency on the foreign exchange market (p 432) frictional unemployment unemployment due to time workers spend in job search (p 127) gains from trade An economic principle that states that by dividing tasks and trading, people can get more of what they want through trade than they could if they tried to be selfsufficient (p 23) G-4 GLOSSARY GDP deflator a price measure for a given year that is equal to 100 times the ratio of nominal GDP to real GDP in that year (p 146) GDP per capita GDP divided by the size of the population; equivalent to the average GDP per person (p 115) government borrowing the amount of funds borrowed by the government in financial markets to buy goods and services (p 105) government purchases of goods and services total purchases by federal, state, and local governments on goods and services (p 105) government transfers payments by the government to individuals for which no good or service is provided in return (p 105) gross domestic product (GDP) the total value of all final goods and services produced in the economy during a given period, usually a year (p 106) growth accounting estimates the contribution of each of the major factors (physical and human capital, labor, and technology) in the aggregate production function (p 378) household a person or a group of people who share income (p 103) human capital the improvement in labor created by the education and knowledge embodied in the workforce (p 373) illiquid describes an asset that cannot be quickly converted into cash without much loss of value (p 226) implicit liabilities spending promises made by governments that are effectively a debt despite the fact that they are not included in the usual debt statistics In the United States, the largest implicit liabilities arise from Social Security and Medicare, which promise transfer payments to current and future retirees (Social Security) and to the elderly (Medicare) (p 303) imports goods and services purchased from other countries (p 105) individual choice the decision by an individual of what to do, which necessarily involves a decision of what not to (p 2) individual demand curve a graphical representation of the relationship between quantity demanded and price for an individual consumer (p 55) individual supply curve a graphical representation of the relationship between quantity supplied and price for an individual producer (p 63) inefficient allocation of sales among sellers a form of inefficiency in which sellers who would be willing to sell a good at the lowest price are not always those who actually manage to sell it; often the result of a price floor (p 84) inefficient allocation to consumers a form of inefficiency in which people who want a good badly and are willing to pay a high price don’t get it, and those who care relatively little about the good and are only willing to pay a low price get it; often a result of a price ceiling (p 80) inefficiently high quality a form of inefficiency in which sellers offer high-quality goods at a high price even though buyers would prefer a lower quality at a lower price; often the result of a price floor (p 85) inefficiently low quality a form of inefficiency in which sellers offer lowquality goods at a low price even though buyers would prefer a higher quality at a higher price; often a result of a price ceiling (p 81) inferior good a good for which a rise in income decreases the demand for the good (p 54) inflation a rise in the overall level of prices (p 12) inflation rate the annual percent change in a price index—typically the consumer price index The inflation rate is positive when the aggregate price level is rising (inflation) and negative when the aggregate price level is falling (deflation) (p 135) inflation targeting an approach to monetary policy that requires that the central bank try to keep the inflation rate near a predetermined target rate (p 312) inflation tax the reduction in the value of money held by the public caused by inflation (p 325) inflationary gap exists when aggregate output is above potential output (p 196) infrastructure physical capital, such as roads, power lines, ports, information networks, and other parts of an economy, that provides the underpinnings, or foundation, for economic activity (p 389) input a good or service used to produce another good or service (p 62) interest rate the price, calculated as a percentage of the amount borrowed, charged by lenders to borrowers for the use of their savings for one year (p 222) interest rate effect of a change in the aggregate price level the effect on consumer spending and investment spending caused by a change in the purchasing power of consumers’ money holdings when the aggregate price level changes A rise (fall) in the aggregate price level decreases (increases) the purchasing power of consumers’ money holdings In response, consumers try to increase (decrease) their money holdings, which drives up (down) interest rates, thereby decreasing (increasing) consumption and investment (p 174) intermediate goods and services goods and services, bought from one firm by another firm, that are inputs for production of final goods and services (p 106) inventories stocks of goods and raw materials held to satisfy future sales (pp 105, 168) inventory investment the value of the change in total inventories held in the economy during a given period Unlike other types of investment spending, inventory investment can be negative, if inventories fall (p 168) investment bank a bank that trades in financial assets and is not covered by deposit insurance (p 257) investment spending spending on productive physical capital, such as machinery and construction of structures, and on changes to inventories (p 106) job search when workers spend time looking for employment (p 127) labor the effort of workers (p 3) labor force the number of people who are either actively employed for pay or unemployed and actively looking for work; the sum of employment and unemployment (pp 12, 119) labor force participation rate the percentage of the population age 16 or older that is in the labor force (p 119) labor productivity (productivity) output per worker (p 372) GLOSSARY land all resources that come from nature, such as minerals, timber, and petroleum (p 3) law of demand the principle that a higher price for a good or service, other things equal, leads people to demand a smaller quantity of that good or service (p 50) law of supply other things being equal, the price and quantity supplied of a good are positively related (p 60) leverage the degree to which a financial institution is financing its investments with borrowed funds (p 258) liability a requirement to pay income in the future (p 224) license the right gives its owner to supply a good or service (p 88) life insurance company a financial intermediary that sells policies guaranteeing a payment to a policyholder’s beneficiaries when the policyholder dies (p 228) liquid describes an asset that can be quickly converted into cash without much loss of value (p 226) liquidity preference model of the interest rate a model of the market for money in which the interest rate is determined by the supply and demand for money (p 273) liquidity trap a situation in which monetary policy is ineffective because nominal interest rates are up against the zero bound (p 339) loan a lending agreement between an individual lender and an individual borrower Loans are usually tailored to the individual borrower’s needs and ability to pay but carry relatively high transaction costs (p 226) loanable funds market a hypothetical market in which the demand for funds is generated by borrowers and the supply of funds is provided by lenders The market equilibrium determines the quantity and price, or interest rate, of loanable funds (p 277) loan-backed securities assets created by pooling individual loans and selling shares in that pool (p 227) long-run aggregate supply curve a graphical representation of the relationship between the aggregate price level and the quantity of aggregate output supplied if all prices, including nominal wages, were fully flexible The long-run aggregate supply curve is vertical because the aggregate price level has no effect on aggregate output in the long run; in the long run, aggregate output is determined by the economy’s potential output (p 184) long-run macroeconomic equilibrium a situation in which the short-run macroeconomic equilibrium is also on the long-run aggregate supply curve; so short-run equilibrium aggregate output is equal to potential output (p 194) long-run Phillips curve a graphical representation of the relationship between unemployment and inflation in the long run after expectations of inflation have had time to adjust to experience (p 336) long-term interest rate the interest rate on financial assets that mature a number of years into the future (p 270) lump-sum taxes taxes that don’t depend on the taxpayer’s income (p 211) macroeconomic policy activism the use of monetary policy and fiscal policy to smooth out the business cycle (p 346) macroeconomics the branch of economics that is concerned with the overall ups and downs in the economy (p 5) marginal propensity to consume (MPC) the increase in consumer spending when income rises by $1 Because consumers normally spend part but not all of an additional dollar of disposable income, MPC is between and (p 159) marginal propensity to save (MPS) the increase in household savings when disposable income rises by $1 (p 159) marginally attached workers nonworking individuals who say they would like a job and have looked for work in the recent past but are not currently looking for work (p 120) market basket a hypothetical consumption bundle of consumer purchases of goods and services, used to measure changes in overall price level (p 142) market economy an economy in which decisions of individual producers and consumers largely determine what, how, and for whom to produce, with little government involvement in the decisions (p 2) medium of exchange an asset that individuals acquire for the purpose of trading for goods and services rather than for their own consumption (p 232) G-5 menu cost the real cost of changing a listed price (p 137) merchandise trade balance (trade balance) the difference between a country’s exports and imports of goods alone—not including services (p 412) microeconomics the branch of economics that studies how people make decisions and how those decisions interact (p 5) minimum wage a legal floor on the wage rate The wage rate is the market price of labor (p 82) model a simplified representation of a real situation that is used to better understand real-life situations (p 14) monetarism a theory of business cycles, associated primarily with Milton Friedman, that asserts that GDP will grow steadily if the money supply grows steadily (p 348) monetary aggregate an overall measure of the money supply The most common monetary aggregates in the United States are M1, which includes currency in circulation, traveler’s checks, and checkable bank deposits, and M2, which includes M1 as well as near-moneys (p 234) monetary base the sum of currency in circulation and bank reserves (p 249) monetary neutrality the concept that changes in the money supply have no real effects on the economy in the long run and only result in a proportional change in the price level (p 317) monetary policy the central bank’s use of changes in the quantity of money or the interest rate to stabilize the economy (p 177) monetary policy rule a formula that determines the central bank’s actions (p 349) money any asset that can easily be used to purchase goods and services (p 231) money demand curve a graphical representation of the negative relationship between the quantity of money demanded and the interest rate The money demand curve slopes downward because, other things equal, a higher interest rate increases the opportunity cost of holding money (p 270) money multiplier the ratio of the money supply to the monetary base; indicates the total number of dollars created in the banking system by each $1 addition to the monetary base (p 250) G-6 GLOSSARY money supply the total value of financial assets in the economy that are considered money (p 231) money supply curve a graphical representation of the relationship between the quantity of money supplied by the Federal Reserve and the interest rate (p 273) movement along the demand curve a change in the quantity demanded of a good that results from a change in the price of that good (p 51) movement along the supply curve a change in the quantity supplied of a good that results from a change in the price of that good (p 60) multiplier the ratio of total change in real GDP caused by an autonomous change in aggregate spending to the size of that autonomous change (p 160) mutual fund a financial intermediary that creates a stock portfolio by buying and holding shares in companies and then selling shares of this portfolio to individual investors (p 228) national income and product accounts an accounting of consumer spending, sales of producers, business investment spending, and other flows of money between different sectors of the economy; also referred to as national accounts Calculated by the Bureau of Economic Analysis (p 102) national savings the sum of private savings and the government’s budget balance; the total amount of savings generated within the economy (p 223) natural rate hypothesis the hypothesis that the unemployment rate is stable in the long run at a particular natural rate According to this hypothesis, attempts to lower the unemployment rate below the natural rate of unemployment will cause an ever-rising inflation rate (p 350) natural rate of unemployment the unemployment rate that arises from the effects of frictional plus structural unemployment (p 130) near-money a financial asset that can’t be directly used as a medium of exchange but can be readily converted into cash or checkable bank deposits (p 235) net exports the difference between the value of exports and the value of imports A positive value for net exports indicates that a country is a net exporter of goods and services; a negative value indicates that a coun- try is a net importer of goods and services (p 108) net present value the present value of current and future benefits minus the present value of current and future costs (p 240) new classical macroeconomics an approach to the business cycle that returns to the classical view that shifts in the aggregate demand curve affect only the aggregate price level, not aggregate output (p 351) new Keynesian economics theory that argues that market imperfections can lead to price stickiness for the economy as a whole (p 352) nominal GDP the value of all final goods and services produced in the economy during a given year, calculated using the prices current in the year in which the output is produced (p 114) nominal interest rate the interest rate actually paid for a loan, not adjusted for inflation (p 138) nominal wage the dollar amount of any given wage paid (p 180) nonaccelerating inflation rate of unemployment (NAIRU) the unemployment rate at which, other things equal, inflation does not change over time (p 336) normal good a good for which a rise in income increases the demand for that good—the “normal” case (p 53) normative economics the branch of economic analysis that makes prescriptions about the way the economy should work (p 6) open-market operation a purchase or sale of U.S Treasury bills by the Federal Reserve, undertaken to change the monetary base, which in turn changes the money supply (p 264) opportunity cost the real cost of an item: what you must give up in order to get it (p 3) output the quality of goods and services produced (p 12) output gap the percentage difference between actual aggregate output and potential output (p 196) pension fund a type of mutual fund that holds assets in order to provide retirement income to its members (p 228) physical asset a claim on a tangible object that gives the owner the right to dispose of the object as he or she wishes (p 224) physical capital human-made goods such as buildings and machines used to produce other goods and services (p 373) planned investment spending the investment spending that firms intend to undertake during a given period Planned investment spending may differ from actual investment spending due to unplanned inventory investment (p 166) political business cycle a business cycle that results from the use of macroeconomic policy to serve political ends (p 351) positive economics the branch of economic analysis that describes the way the economy actually works (p 6) potential output the level of real GDP the economy would produce if all prices, including nominal wages, were fully flexible (p 185) present value the amount of money needed at the present time to produce, at the prevailing interest rate, a given amount of money at a specified future time (p 239) price ceiling the maximum price sellers are allowed to charge for a good or service; a form of price control (p 77) price controls legal restrictions on how high or low a market price may go (p 77) price floor the minimum price buyers are required to pay for a good or service; a form of price control (p 77) price index a measure of the cost of purchasing a given market basket in a given year, where that cost is normalized so that it is equal to 100 in the selected base year; a measure of overall price level (p 143) price stability when the aggregate price level is changing only slowly (p 13) private savings disposable income minus consumer spending; disposable income that is not spent on consumption but rather goes into financial markets (p 105) producer price index (PPI) a measure of the cost of a typical basket of goods and services purchased by producers Because these commodity prices respond quickly to changes in demand, the PPI is often regarded as a leading indicator of changes in the inflation rate (p 145) GLOSSARY production possibilities curve illustrates the trade-offs facing an economy that produces only two goods; shows the maximum quantity of one good that can be produced for each possible quantity of the other good produced (p 16) product markets where goods and services are bought and sold (p 103) public debt government debt held by individuals and institutions outside the government (p 300) purchasing power parity (between two countries’ currencies) the nominal exchange rate at which a given basket of goods and services would cost the same amount in each country (p 427) quantity control (quota) an upper limit, set by the government, on the quantity of some good that can be bought or sold; also referred to as a quota (p 88) quantity demanded the actual amount of a good or service consumers are willing to buy at some specific price (p 49) quantity supplied the actual amount of a good or service producers are willing to sell at some specific price (p 59) Quantity Theory of Money a theory that emphasizes the positive relationship between the price level and the money supply It relies on the equation (M × V = P × Y) (p 349) quota rent the earnings that accrue to the license-holder from ownership of the right to sell the good (p 91) rate of return (of an investment project) the profit earned on an investment project expressed as a percentage of its cost (p 278) rational expectations a theory of expectation formation that holds that individuals and firms make decisions optimally, using all available information (p 352) real business cycle theory a theory of business cycles that asserts that fluctuations in the growth rate of total factor productivity cause the business cycle (p 352) real exchange rate the exchange rate adjusted for international differences in aggregate price levels (p 425) real GDP the total value of all final goods and services produced in the economy during a given year, calculated using the prices of a selected base year (p 114) real income income divided by the price level (p 135) real interest rate the nominal interest rate minus the inflation rate (p 138) real wage the wage rate divided by the price level (p 135) recession a period of economic downturn when output and unemployment are falling; also referred to as a contraction (p 10) recessionary gap exists when aggregate output is below potential output (p 195) required reserve ratio the smallest fraction of deposits that the Federal Reserve allows banks to hold (p 244) research and development (R & D) spending to create and implement new technologies (p 388) reserve ratio the fraction of bank deposits that a bank holds as reserves In the United States, the minimum required reserve ratio is set by the Federal Reserve (p 244) reserve requirements rules set by the Federal Reserve that set the minimum reserve ratio for banks For checkable bank deposits in the United States, the minimum reserve ratio is set at 10% (p 246) resource anything, such as land, labor, and capital, that can be used to produce something else; includes natural resources (from the physical environment) and human resources (labor, skill, intelligence) (p 3) revaluation an increase in the value of a currency that is set under a fixed exchange rate regime (p 438) Rule of 70 a mathematical formula that states that the time it takes real GDP per capita, or any other variable that grows gradually over time, to double is approximately 70 divided by that variable’s annual growth rate (p 371) savings and loans (thrifts) deposittaking banks, usually specialized in issuing home loans (p 257) savings–investment spending identity an accounting fact that states that savings and investment spending are always equal for the economy as a whole (p 222) scarce in short supply; a resource is scarce when there is not enough of the resource available to satisfy all the various ways a society wants to use it (p 3) G-7 securitization the pooling of loans and mortgages made by a financial institution and the sale of shares in such a pool to other investors (p 259) self-correcting refers to the fact that in the long run, shocks to aggregate demand affect aggregate output in the short run, but not the long run (p 196) shoe-leather costs (of inflation) the increased costs of transactions caused by inflation (p 137) shortage the insufficiency of a good or service that occurs when the quantity demanded exceeds the quantity supplied; shortages occur when the price is below the equilibrium price (p 68) short-run aggregate supply curve a graphical representation of the relationship between the aggregate price level and the quantity of aggregate output supplied that exists in the short run, the time period when many production costs can be taken as fixed The short-run aggregate supply curve has a positive slope because a rise in the aggregate price level leads to a rise in profits, and therefore output, when production costs are fixed (p 181) short-run equilibrium aggregate output the quantity of aggregate output produced in short-run macroeconomic equilibrium (p 190) short-run equilibrium aggregate price level the aggregate price level in shortrun macroeconomic equilibrium (p 190) short-run macroeconomic equilibrium the point at which the quantity of aggregate output supplied is equal to the quantity demanded (p 190) short-run Phillips curve a graphical representation of the negative shortrun relationship between the unemployment rate and the inflation rate (p 331) short-term interest rate the interest rate on financial assets that mature within less than a year (p 269) social insurance government programs—like Social Security, Medicare, unemployment insurance, and food stamps—intended to protect families against economic hardship (p 204) specialization a situation in which different people each engage in the different task that he or she is good at performing (p 23) G-8 GLOSSARY stabilization policy the use of government policy to reduce the severity of recessions and to rein in excessively strong expansions There are two main tools of stabilization policy: monetary policy and fiscal policy (p 199) stagflation the combination of inflation and falling aggregate output (p 193) sticky wages nominal wages that are slow to fall even in the face of high unemployment and slow to rise even in the face of labor shortages (p 180) stock a share in the ownership of a company held by a shareholder (p 104) store of value an asset that is a means of holding purchasing power over time (p 232) structural unemployment unemployment that results when there are more people seeking jobs in a labor market than there are jobs available at the current wage rate (p 128) subprime lending lending to home buyers who don’t meet the usual criteria for borrowing (p 259) substitutes pairs of goods for which a rise in the price of one of the goods leads to an increase in the demand for the other good (p 53) supply and demand model a model of how a competitive market works (p 48) supply curve a graphical representation of the supply schedule, showing the relationship between quantity supplied and price (p 59) supply price the price of a given quantity at which producers will supply that quantity (p 90) supply schedule a list or table showing how much of a good or service producers will supply at different prices (p 59) supply shock an event that shifts the short-run aggregate supply curve A negative supply shock raises production costs and reduces the quantity supplied at any aggregate price level, shifting the curve leftward A positive supply shock decreases production costs and increases the quantity supplied at any aggregate price level, shifting the curve rightward (p 192) surplus the excess of a good or service that occurs when the quantity supplied exceeds the quantity demanded; sur- pluses occur when the price is above the equilibrium price (p 68) sustainable describes continued longrun economic growth in the face of the limited supply of natural resources and the impact of growth on the environment (p 391) T-account a simple tool that summarizes a business’s financial position by showing, in a single table, the business’s assets and liabilities, with assets on the left and liabilities on the right (p 243) target federal funds rate the Federal Reserve’s desired level for the federal funds rate The Federal Reserve adjusts the money supply through the purchase and sale of Treasury bills until the actual rate equals the desired rate (p 307) Taylor rule for monetary policy a rule for setting the federal funds rate that takes into account both the inflation rate and the output gap (p 311) technology the technical means for the production of goods and services (pp 21, 373) total factor productivity the amount of output that can be produced with a given amount of factor inputs (p 379) trade when individuals provide goods and services to others and receive goods and services in return (p 23) trade-off when you give up something in order to have something else (p 16) transaction costs the expenses of negotiating and executing a deal (p 225) underemployed people who work part time because they cannot find fulltime jobs (p 120) unemployed people who are actively looking for work but are not currently employed (p 119) unemployment the total number of people who are actively looking for work but aren’t currently employed (p 12) unemployment rate the percentage of the total number of people in the labor force who are unemployed, calculated as unemployment/(unemployment + employment) (pp 12, 119) unit of account a measure used to set prices and make economic calculations (p 233) unit-of-account costs (of inflation) costs arising from the way inflation makes money a less reliable unit of measurement (p 137) unplanned inventory investment unplanned changes in inventories, which occur when actual sales are more or less than businesses expected; sales in excess of expectations result in negative unplanned inventory investment (p 169) value added (of a producer) the value of a producer’s sales minus the value of input purchases (p 107) velocity of money the ratio of nominal GDP to the money supply (p 349) vicious cycle of deleveraging describes the sequence of events that takes place when a firm’s asset sales to cover losses produce negative balance sheet effects on other firms and force creditors to call in their loans, forcing sales of more assets and causing further declines in asset prices (p 258) wasted resources a form of inefficiency in which people expend money, effort, and time to cope with the shortages caused by a price ceiling (p 80) wealth (of a household) the value of accumulated savings (p 224) wealth effect of a change in the aggregate price level the effect on consumer spending caused by the change in the purchasing power of consumers’ assets when the aggregate price level changes A rise in the aggregate price level decreases the purchasing power of consumers’ assets, so they decrease their consumption; a fall in the aggregate price level increases the purchasing power of consumers’ assets, so they increase their consumption (p 174) wedge the difference between the demand price of the quantity transacted and the supply price of the quantity transacted for a good when the supply of the good is legally restricted Often created by a quota or a tax (p 91) zero bound the lower bound of zero on the nominal interest rate (p 339) Index A Absolute advantage, 27 Actual investment spending, 169 Actual output, 185–186, 397 AD-AS model, 190–197 classic model of the price level, 322 demand shock, 191–197 economic policy, 199–207 inflation, 327 long-run economic growth, 399–400 long-run macroeconomic equilibrium, 194–196 short-run macroeconomic equilibrium, 190–191 supply shock, 192–194, 197 Africa, economic growth, 381–383 Aggregate consumption function, 164–166 Aggregate demand-aggregate supply model See AD-AS model Aggregate demand curve, 172–177 AD-AS model, 190–196 downward slope, 173–174 fiscal policy, 209 monetary policy, 309–310 movement along, 174 shifts of, 174–177, 444 Aggregate output, 12, 112–115 actual, 186 aggregate demand curve, 172–173, 175 aggregate supply curve, 179, 181–188 Great Depression, 188 money supply increase, 316–317 output gap, 196 recessionary gap, 195 short-run equilibrium, 190–193 Aggregate price level, 142–143, 146 aggregate demand curve, 172–175, 177 aggregate supply curve, 179–188 change in, wealth/interest rate effects, 174 Great Depression, 188 long-run equilibrium, 194–196 money demand curve, 271–272 money supply, 316–317, 322 short-run equilibrium, 190–193 Aggregate production function, 374–378 Aggregate spending, 106 Aggregate supply curve, 179–187 AD-AS model, 190–196 long-run, 184–187 short-run, 179–184 Aggregate wealth, 166 Agricultural price floors, 82–84 Airline industry, regulation, 85 All Creatures Great and Small, 65 Allen, Paul, 227 American Economic Association, American Economic Review, American Recovery and Reinvestment Act, 209, 213 A Monetary History of the United States, 1867–1960 (Friedman, Schwartz), 347–348 An Essay on the Principle of Population (Malthus), 378 Applebee’s, 54 Appreciates, 420–424 Arab-Israeli war, 197 Argentina bank runs, 245 debt defaulting, 301, 305 economic growth, 369, 379–381 fixed exchange rate, 432, 435 natural resources, 378 Assets banks, 244 Federal Reserve, 264–265 financial, 224, 226–227 physical, 224 prices, macroeconomic policy, 358–359 ATMs, 272–273 Australia monetary neutrality, 318 natural resources, 378 Automatic stabilizers, 161, 212, 298 Automobile industry, 168, 170, 427 Autonomous change in aggregate spending, 160, 209 Autonomous consumer spending, 162–164 B Bailey, George, 245 Balance of payments capital flows, 408–413 exchange rate, 419, 421–423 merchandise trade, 410–411 Balance of payments accounts, 408–413 Balance of payments on goods and services, 410 Balance of payments on the current account, 410–413, 436 Balance of payments on the financial account, 411–414 Balance sheet effect, 258 Bangladesh, clothing production, 27 Bank deposit, 224, 229, 248–249 See also Checkable bank deposit Bank failure, 245 Bank holidays, 256 Banking system, 253–260 Bank of England, 253, 358 Bank of Japan, 253, 341, 359 Bank reserves, 243 Bank run, 243, 245–246, 253–254 Banks, 228–229 See also Federal Reserve assets, liabilities, 244 central, 253, 310, 315–316, 318, 358 commercial, 257, 264–265 crises, 254–255 Federal Reserve System, 262–266 investment, 257 monetary role, 243–251 money creation, 247–248 regulation, 246–247 Barter system, 232 Belgium, minimum wage, 84 Bernanke, Ben, 201, 295, 416 Big Mac index, 425–426 Black labor, 85 Black markets, 81 BLS (Bureau of Labor Statistics), 120, 147, 161 Board of Governors, 255 Bond, 104, 224, 226, 270 Bonus foods, 84 Bosworth, Barry, 374 Boxer, Barbara, 393 Brazil agricultural boom, 388 coffee beans, 47, 59, 64 economic growth, 381 hyperinflation, 136–137 Brazilian Enterprise for Agricultural and Livestock Research, 388 Bretton Woods, 435–436 Britain Bank of England, 253, 358 capital flows, 415, 417 congestion charge, 57 loanable funds market, 414 pound, 435, 439 real GDP per capita growth rate, 382 Brookings Institution, 374 Bryan, William Jennings, 138 Budget balance, 223, 296–300 budget deficit, 296–300 cyclically adjusted, 297–299 fiscal policy, 296–297 Budget deficit, 223, 296–305 actual versus cyclically adjusted, 299 government, 280–281 implicit liabilities, 303–304 in practice, 301–303 unemployment rate, 298 Budget surplus, 223, 296–301 Bureau of Economic Analysis, 102 Bureau of Labor Statistics (BLS), 120, 147, 161 Business cycle, 10–13 aggregate output, 12 classical macroeconomics, 344 cyclically adjusted budget balance, 297–299 international, 438 long-run economic growth, 400 unemployment, 11–12 Butter, price floors, 82–83 C Canada aircraft exports, 28–29 exchange rate, 426, 431–432 government spending, tax revenue, 202 monetary neutrality, 318 natural resources, 378 Cap and trade, 393 Capital, Capital account See Financial account Capital flows balance of payments, 408–413 financial account, 411–414 golden age, 417 international, determinants, 415–417 net, gross, 416 two-way, 416 Capital inflow, 223–224 exchange rate, 422–423 loanable funds, 281, 413–415 Capital requirements, 246 Carbon dioxide emissions, 392–393 Cash, 231, 235, 247–248 See also Money I-1 I-2 INDEX Cast Away, 16 Castaway analogy, 16–21, 24–27 CBO (Congressional Budget Office), 131, 185, 328, 338 CD (certificate of deposit), 268–271 Central bank, 253, 310 See also Federal Reserve Bank of England, 253, 358 Bank of Japan, 253, 341, 359 European Central Bank (ECB), 253 monetary policy, 315–316, 318 targets, 358 Cerrado, 388 Certificate of deposit (CD), 268–271 Ceteris paribus See Other things equal assumption Chained dollars, 115 Chain-linking, 115 Change in demand, 51 Change in supply, 60 Checkable bank deposit, 231, 247–248 See also Bank deposit Chile, economic growth, 381 China carbon dioxide emissions, 392 economic growth, 365, 367, 369, 374, 385 exchange rate, 425, 432 Nike factories, 416 pollution, 390 Cigarette exchange, 14, 232–233 Circular-flow diagram, 102–106 expanded, 103–106 simple, 102–103 Citizens’ Bank of Louisiana, 234 Clam licenses, 92 Classical macroeconomics, 343–344, 355–357 Classic model of the price level, 322–323 Climate change, economic growth, 392–393 Climate protection, 393 Club of Rome, 389 Coal, 391–392 The Coal Question (Jevons), 391 Coca-Cola, markets, 48 Coffee, 47 changes in supply/demand, 71–74 demand curve, 49–56 market equilibrium, 66–69 supply curve, 59–64 COLAs (cost-of-living allowances), 147 Collective bargaining, 129 Collins, Susan, 374 Commercial banks, 257, 264–265 Commodity, 182 Commodity-backed money, 233 Commodity money, 233 Commodity prices, SRAS, 182–183 Comparative advantage, 24–29 gains from trade, 26 international trade, 28–29 Competitive market, 48 perfectly/imperfectly, 180–181 Complements, 53, 57 Complements in production, 63 Conditional convergence, 282 Congestion charge, 57 Congressional Budget Office (CBO), 131, 185, 328, 338 Constant opportunity cost, 19 Consumer price index (CPI), 143–147, 337 Consumers, demand curve, 55–56 Consumer spending, 103, 161–167 aggregate consumption function, 164–166 autonomous, 162–164 consumption function, 162–164 current disposable income, 161–164 fluctuations, 167 Great Depression, 161 Consumption bundle, 142 Consumption function, 162–164 Contractionary fiscal policy, 204–206, 209 Contractionary monetary policy, 310, 313 Convergence hypothesis, 381–382 Core inflation rate, 337 Corn, 75, 84 Cost-of-living allowances (COLAs), 147 Cost-push inflation, 327 Counterfeit money, 221, 234, 265 CPI (consumer price index), 143–147, 337 Cramer, Jim, 295, 309 Crowding out, 281, 300 Crusoe, Robinson, 16 Currency, 231, 235, 243 See also Money Currency in circulation, 231 Current account, 410–413, 436 Current disposable income, 161–164 Current Population Survey, 119 Cyclically adjusted budget balance, 297–299 Cyclical unemployment, 130, 328–329 D Dairy, price floors, 82–84 Damon, Matt, David, Paul, 379 Deadweight loss, 90, 92 Debt, 300–305 See also Federal debt default, 226, 301, 305 deflation, 338–339 in practice, 301–303 Debt deflation, 338–339 Debt-GDP ratio, 301–303 Default, 226, 301, 305 Deficit See Budget deficit Deflation, 12–13, 139 debt, 338–339 effects, 339–341 Defoe, Daniel, 16 Delta (change in), 159 Demand curve, 49–56 demand schedule, 49–50 individual, 55–56 market, 55 movement along, 51–52 rightward versus leftward shifts, 52–53 shift effects, 71–72 shifts, 50–56, 444 Demand price, 89–90 Demand-pull inflation, 327 Demand schedule, 49–50 Demand shock, 191–197 economic policy, 200 negative, 172, 194–195 positive, 194–195 short-run versus long-run effects, 194–195 versus supply shock, 193–194, 197 Demographics, unemployment, 120–121 Department of Commerce, 102, 113 Deposit insurance, 246 Depositors, 228–229 Depreciates, 420–424, 436 Depreciation, 398 Depressions, 10–11 See also Great Depression Detroit Free Press, 124 Devaluation, 436–437 Diminishing returns to physical capital, 374–377 Disabled workers, 119 Discount rate, 263–264 Discount window, 246–247, 263 Discouraged workers, 120 Discretionary fiscal policy, 212, 356–357 Discretionary monetary policy, 348, 357–359 Disinflation, 139, 327–329 costs of, 338 1980s, 337 Disposable income, 105 aggregate consumption function, 165–166 current, 161–164 future, 165 government budget, 204 MPC, MPS, 159–160 Diversification, 225, 227 Dividends, 108, 211 Dixies, 234 Dollar (U.S.) Euro comparison, 407 exchange rate, 419–426 history of, 234 Double coincidence of wants, 232 Double-counting, 107–108 E East Asia economic growth, 380–382 human capital, 386 East Germany, structural unemployment, 132 ECB (European Central Bank), 253 Eckaus, Richard, 101 Economic aggregates, Economic costs, 136–138 Economic growth, 13–14, 20–21, 366–371 See also Long-run economic growth Africa, 381–383 aggregate production function, 374–378 climate change, 392–393 comparing economies, 366–370 East Asia, 380–381 environment, 390–393 government, 387–389 growth rates, 369–370 Latin America, 381 long-run, sources, 370–371 natural resources, 378, 389–390 oil consumption, 391 rate differences, 385–389 real GDP per capita, 366–368 Rule of 70, 369 sustainability, 389–393 unemployment, 122–123 Economic performance, measuring circular flow, 102–106 gross domestic product, 106–110, 112–116 inflation, 134–139, 142–147 national accounts, 102–110 INDEX price indexes, 142–147 unemployment, 118–124, 126–132 Economic policy See also Fiscal policy; Monetary policy AD-AS model, 199–207 demand shocks, 200 fiscal policy, 202–207 macroeconomic, 199–201 stabilization, 199–201 supply shocks, 200–201 Economics, positive versus normative, 5–8 Economic theories See Macroeconomic models The Economist, 425–426 Economists, 7–8 Economy, Edison, Thomas Alva, 387 Education, 374, 380–383, 386, 388 Efficiency wages, 130 Efficient, 17–18 Efficient in allocation, 18 Efficient in production, 18 Eisenhower, Dwight David, 54 Electricity, 379 Employed, 119 Employment, 12 See also Unemployment Energy Policy Act, 75 England See Britain Entrepreneurship, Environment, economic growth, 390–393 Equilibrium, 66–69 market, 67 shifts, 71–74 Equilibrium exchange rate, 421–423 Equilibrium interest rate, 273–274, 277–280 Equilibrium price, 66–69, 71–75 Equilibrium quantity, 66–67, 71–74 An Essay on the Principle of Population (Malthus), 378 Ethanol, 75 Euro, 134 creation of, 435–436 dollar comparison, 407 exchange rates, 419–423 Europe carbon dioxide emissions, 392 monetary neutrality, 318 unemployment benefits, 130 European Central Bank (ECB), 253 European Commission, 83 Excess demand See Shortage Excess reserves, 249 Excess supply See Surplus Exchange market intervention, 430–431 Exchange rate, 419–427 See also Foreign exchange market automobile industry, 427 balance of payments, 419, 421–423 Big Mac index, 425–426 equilibrium, 420–423 nominal, 423–426, 429 real, 423–425 Exchange rate, policy devaluation, revaluation, 435–437 exchange market intervention, 430–431 fixed, 429–432, 435–437 floating, 429, 431–432, 437–438 foreign exchange controls, 431 foreign exchange reserves, 430–431 international business cycle, 438 macroeconomic, 435–439 Exchange Rate Mechanism, 436, 439 Exchange rate regime, 429–432, 435–439 Expanded circular-flow diagram, 103–106 Expansionary fiscal policy, 204–205, 209, 355–356 Expansionary monetary policy, 310, 355–356 Expansions, 10–11 Expectation changes aggregate demand curve, 175 demand curve, 54–55 supply curve, 63 Expected deflation, 339 Expected inflation, 333–336 Exports, 105–106, 108–109 F Factor income, 409–410 Factor markets, 103 Factors of production, Fannie Mae, 257 Farmers, price floors, 82–84 Fast-food restaurants, 54 FDIC (Federal Deposit Insurance Corporation), 229, 246 The Fed See Federal Reserve Federal See also Government entries Federal budget, 204 balance, 296–300 deficit, 296–305 future demands, 304 Federal debt, 300–304 problems with, 300–301 World War II, 303 Federal Deposit Insurance Corporation (FDIC), 229, 246 Federal funds market, 263 Federal funds rate, 263, 307–313 Federal Open Market Committee, 255, 273, 295, 313 interest rate, 307, 309 Federal Reserve, 234–235, 295 assets, liabilities, 264–265 banks, 243–244, 246–247, 249–250 central bank targets, 358 financial crisis of 2008, 258–260 housing boom, 169, 258–259 monetary policy, interest rate, 307–313 money supply, 273–274 press release, 273 stock bubble, 359 target federal funds rate, 273, 307–309 unconventional policy, 359 U.S Treasury, 324 Federal Reserve Bank of New York, 255–256, 258 Federal Reserve Banks, 255–256 Federal Reserve Board, 134 Federal Reserve districts, 255–256 Federal Reserve System, 253–260, 262–266 counterfeit money, 265 creation, 253–255 discount rate, 263–264 effectiveness of, 256–257 functions of, 262–266 monetary policy, 262–266 open market operations, 264–266 reserve requirement, 263 structure of, 255–256 Treasury bills, 264–265, 324 Fiat money, 234 Fidelity Investments, 228 Final buyers, 108 Final goods and services, 106–107 Finance, international See Open economy Financial account, 411–414 Financial asset, 224, 226–227 Financial capital, 413 Financial crisis of 2008, 258–260 Financial intermediary, 227–229, 243 Financial markets, 105, 224, 277 Financial risk, 225 Financial sector banking, 243–251 I-3 Federal Reserve System, 253–260, 262–266 financial system, 224–229 interest rate models, 273–274, 277–286 loanable funds, 277–286 money, 231–235 money, time value, 237–241 money creation, 247–251 money market, 268–275 savings, investment, 222–224 Financial system, 224–229 financial assets, 224, 226–227 financial intermediaries, 227–229 liquidity, 225–226 risk, 225 transaction costs, 225 Firm, 103 First Street Bank, 244–248 Fiscal policy, 176–177, 202–207 aggregate demand curve, 209 budget balance, 296–300 contractionary, 204–206, 209 deficits, 296–305 demand/supply shocks, 200–201 discretionary, 212, 356–357 expansionary, 204–205, 209, 355–356 fixed money supply, 349 government spending, 202–205 lags, 206–207 long-run implications, 300–305 macroeconomic theories, 356–357 versus monetary policy, 355–357 multiplier, 209–213 public debt, 300–302 taxes, 202–205 unemployment reduction, 356 Fiscal year, 300 Fisher, Irving, 283, 338–339 Fisher effect, 283, 339 Fixed exchange rate, 429–432, 435–437 Flat-bottomed paper bag, 371 Floating exchange rate, 429, 431–432, 437–438 Florida, housing boom, 157 Ford, Henry, 379 Ford Motors U.K., 412 Foreign exchange See Exchange rate Foreign exchange controls, 431 Foreign exchange market, 419–423, 444 See also Exchange rate equilibrium, 422–423 exchange rate, 419–427 I-4 INDEX Foreign exchange reserves, 430–432 Fossil fuel consumption, 392 Franc, 134, 436 France consumer price index, 145 economic growth, 369, 382 Euro, 134 government spending, tax revenue, 202 Freddie Mac, 257 Frictional unemployment, 127–128, 130 Friedman, Milton, 165–166, 333, 347–350, 355 Frisch, Ragnar, 343 Ft Myers, Florida, 157 Funny money, 221 Future disposable income, 165 G Gains from trade, 23–29, 232 Gas, natural, 63 Gasoline, 63, 80 Gates, Bill, 4, 227 GDP See Gross domestic product “GDP: One of the Great Inventions of the 20th Century” (Department of Commerce), 113 GDP deflator, 146 aggregate demand, 172–173 Great Depression, 188 GDP per capita See Gross domestic product per capita General Motors, jobs, 126–127 The General Theory of Employment, Interest, and Money (Keynes), 344–347 Germany hyperinflation, 136, 325 marc, 436 real GDP per capita growth rate, 382 structural unemployment, 132 Glass-Steagall Act, 256–257 Global savings glut, 416 Global warming, 392–393 GNP (gross national product), 412 Goods and services balance of payments, 410 final, intermediate, 106–107 Government See also Federal entries climate change, 393 economic growth, 387–389 human capital, 388 infrastructure, 387 intervention, 388–389 physical capital, 387–388 political stability, 388–389 price controls, 77–85 property rights, 388–389 quantity controls, 88–93 technology, 388 Government borrowing, 105, 202, 280 Government budget See Federal budget Government debt See also Federal debt defaulting, 301, 305 Government deficits See Budget deficit Government policy See also Economic policy; Fiscal policy; Monetary policy AD-AS curve, 194 aggregate demand curve, 176 unemployment rate, 132 Government purchases of goods and services, 105, 202–203, 205, 209–210 Government spending, 202–205 GDP, 209–210 tax revenue, 202 United States, 202–204 Government transfers, 105, 203–205, 210–211 Grains, price floors, 82–84 Great Depression, 10 aggregate demand curve, 172 aggregate output, price level, 188 debt deflation, 339 deflation, 139 demand shock, 191–192 end of, 177, 346 Federal Reserve System, 256–257 GDP deflator, 188 Keynesian Revolution, 344–347 multiplier, 161 national accounts, 113 stock market crash, 175–176 Works Progress Administration, 212 World War II, 177, 346 world-wide influence, 438 Greece, national debt, 301 Greenhouse gas emissions, 392–393 Greenspan, Alan, 255, 358 Gross domestic product (GDP), 106–110 calculating, 107, 109 components of, 108–109 debt-GDP ratio, 301–303 domestically produced final goods and services, 107–108 double-counting, 107–108 final goods and services, 106–107 firms in the economy, 108 GDP deflator, 146, 172–173, 188 government spending, 209–210 government spending, tax revenue, 202 versus gross national product, 412 imports, exports, 105–106, 108–109 included/not included, 110 interpreting, 112–116 measuring, 106–108 net exports, 108–109 nominal, 114, 116 real, 112–116 versus real GDP, 113 U.S per capita, 13 value added, 107 Gross domestic product (GDP) per capita, 13, 115 See also Real gross domestic product per capita Gross national product (GNP), 412 Growth See Economic growth Growth accounting, 376 Growth policy, 385–393 Growth rates, 369–370 See also Economic growth differences, 385–389 human capital, 386 physical capital, 385–386 technological progress, 386–387 H Haircut, 305 Hanks, Tom, 16 Hats, 54 Hedge fund, 258 Herriot, James, 65 Hicks, John, 347 Hitler, Adolf, 344 Home construction, 157–158, 167 Hong Kong, exchange rate, 429 Hoover, Herbert, 10 Hoovervilles, 10 Horizontal sum, 55 Household, 103 Housing boom, 157, 169, 258–259 Housing bubble, 258–259, 358–359, 416 Human capital, 222 aggregate production function, 374–378 East Asia, 380–381 government, 388 growth rates, 386 productivity, 371 Hyperinflation, 136–137, 325–327 I Iceland, monetary neutrality, 318 Illegal activity, price floors, 85 Illiquid, 226 Imperfectly competitive markets, 180–181 Implicit liabilities, 303–304 Imports, 105–106, 108–109 Income, demand curve, 53–54 Income, disposable See Disposable income Income, national See National income Income, price determination, 158–170 Income, real, 135 Income, world-wide, 368 Income tax, 202–203 Increase in demand, 51 Increase in supply, 61 Increasing opportunity cost, 19 Indexing to CPI, 147 India economic growth, 367–369, 374, 389 monetary neutrality, 318 Individual choice, Individual demand curve, 55–56 Individual supply curve, 63–64 IndyMac, 245 Inefficient, 18 Inefficient allocation of sales among sellers, 84 Inefficient allocation to consumers, 80 Inefficiently high quality, 85 Inefficiently low quality, 81 Inefficiently low quantity, 84 Inferior good, 54 Inflation, 4, 12–13, 134–139 consumer price index, 143–147 cost-push, 327 demand-pull, 327 disinflation, 139 expected, 333–336 GDP deflator, 146 hyperinflation, 136–137, 325–327 inflation tax, 324–325 interest rates, 138–139 Israel, 136–137 level of prices, 134–138 loanable funds, 282–284 long-run Phillips curve, 335–336 measurement, calculation, 143–147 menu costs, 136–137 monetary policy, 310–313 money, 321–327 INDEX nonaccelerating inflation rate of unemployment, 336–337 output gap, unemployment rate, 328–329 Portugal, 101, 112 price indexes, 143–147 producer price index, 143, 145–146 real exchange rate, 423–425 shoe-leather costs, 136–137 short-run Phillips curve, 331–335 stagflation, 193, 334 targeting, 312 unit-of-account costs, 137–138 Venezuela, 116 winners/losers, 138–139 Zimbabwe, 137, 321, 323–324, 326 Inflationary gap, 196 contractionary fiscal policy, 206 unemployment rate, 328 Inflation rate, 135–139 core, 337 versus level of price, 135 United States, 135–139 Inflation targeting, 312 Inflation tax, 324–325 Inflows, 223 See also Capital inflow Information technology, 379 Infrastructure, 387 In kind, 137 Input, 62–63, 106–108, 110 Interest rate, 222 CDs, 268–271 equilibrium, 273–274, 277–280 Fisher effect, 283 inflation, 138–139 investment spending, 167–168 loanable funds, 277–286 long run determination, 285–286 long-term, 270 monetary policy, Federal Reserve, 307–313 money, 273–275 money demand curve, 270–273 money supply changes, 317–319 opportunity cost, holding money, 268–270 short run determination, 284–285 short-term, 268–270 U.S housing boom, 169 Interest rate effect of a change in the aggregate price level, 174 Interest rate models comparing, 284–286 liquidity preference, 273–274, 284–286 loanable funds, 277–286 long run determination, 285–286 short run determination, 284–285 Intermediate goods and services, 106–107 International business cycle, 438 International capital flows, 415–417 International finance See Open economy International Monetary Fund, 351 International trade See also Open economy comparative advantage, 28–29 exports/imports, 105 International transfers, 409–410, 412 Inventories, 105–106, 168–170 Inventory investment, 168–170 Investment banks, 257 Investment spending, 106, 157–160 capital flows, 413, 415–416 economic growth, 386 fluctuations, 167 Great Depression, 161 interest rate, 167–168 inventories, 168–170 planned, 166–167 production capacity, 168 real GDP, 168 savings, 222–224 unplanned, 168–170 Ireland economic growth, 369 infrastructure, 387 Iron ore, 106–107 Israel, inflation, 136–137 Italy, economic growth, 382 It’s a Wonderful Life, 245 J Jackpots, 241 Japan Bank of Japan, 253, 341, 359 consumer price index, 145 deficit, debt, 300, 302–303 economic growth, 365, 385 government spending, tax revenue, 202 Lost Decade, 340–341 monetary neutrality, 318 natural resources, 378 private savings, 415 public works projects, 177 real GDP per capita growth rate, 382 Jevons, William Stanley, 391 Jobs, unemployment, 126–127 Job search, 127 Johnson, Lyndon, 205, 209 Joseph, Marc, 157 K Keynes, John Maynard, 199, 317, 322, 343–351 Keynesian economics, 199, 344–351, 355–357 challenges to, 347–351 Great Depression, 344–347 Keynesian Revolution, 344–347 new, 352, 356 KFC, 54 Korea, monetary neutrality, 318 Kuwait, natural resources, 378 Kuznets, Simon, 113 Kydland, Finn, 353 L Labor, Labor force, 12, 119, 131 Labor force participation rate, 119 Labor market, 103, 128 Labor market institutions, 131 Labor productivity, 370–371 Labor strike, 129 Labor unions, 129–130 Laffer curve, 357 Land, Latin America economic growth, 381–382 human capital, 386 transfer payments, 412 Law of demand, 50, 173 Law of supply, 60 LeBron, James, Lehman Brothers, 260 Level of prices, 134–138 Leverage, 258 Liability, 224 banks, 244 Federal Reserve, 264–265 implicit, 303–304 License, 88 Lieberman, Joseph, 393 Life-cycle hypothesis, 166 Life insurance company, 228 The Limits to Growth (Club of Rome), 389 Liquid, 226 Liquidity, 225–226 Liquidity preference model of the interest rate, 273–274, 284–286 Liquidity trap, 339–340, 347 Lira, Turkey, 322 Loan, 224, 226 Loanable funds capital inflow, 281, 413–415 demand for, 278 demand shifts, 280–281, 444 financial account, 413–414 Fisher effect, 283 I-5 government borrowing, 280 inflation, 282–284 interest rates, 277–286 supply of, 279 supply shifts, 281–282, 444 Loanable funds market, 277–286, 413–414, 444 Loanable funds model, 413–414 Loan-backed securities, 227 Long-run aggregate supply curve (LRAS), 184–187, 444 classic model of the price level, 322–323 long-run economic growth, 399–401 long-run macroeconomic equilibrium, 194 money supply increase, 316–317 versus short-run, 186–187 Long-run economic growth, 365–371 See also Economic growth AD-AS model, 399–400 long-run aggregate supply curve, 399–401 macroeconomic models, 396–401 production possibilities curve, 396–400 productivity, 370–371 real GDP per capita, comparison, 379–383 versus short-run fluctuations, 400–401 sources, 370–371 Long-run macroeconomic equilibrium, 194–196 Long-run Phillips curve (LRPS), 335–337 Long-Term Capital Management (LTCM), 258 Long-term interest rates, 270 Lost Decade, 340–341 Lottery, 241 LRAS See Long-run aggregate supply curve LTCM (Long-Term Capital Management), 258 Lucas, Robert, 352 Lump-sum taxes, 211 M M1, M2, 234–235, 243, 268 Macroeconomic analysis initial effects, 441–442, 445 long-run effects, 441–442, 445–446 pivotal event, 441–445 scenario analysis, 446–448 secondary effects, 441–442, 445–446 starting point, 441–443 structure for, 441–446 I-6 INDEX Macroeconomic models classical, 343–344, 355–357 classical versus Keynesian, 345 Keynesian, 344–347, 355–357 modern consensus, 355–359 monetarism, 355–357 monetary policy versus fiscal policy, 355–357 natural rate hypothesis, 350–351 new classical economics, 351, 356 new Keynesian economics, 352, 356 political business cycle, 351 rational expectations, 352 real business cycle theory, 352–353 supply-side economics, 357 Macroeconomic policy activism, 346 Macroeconomics, exchange rates, 435–439 five key questions, 355–359 international business cycle, 438 introduction, 10–14 long-run economic growth, 396–401 versus microeconomics, open-economy, 407 policy, 199–201 Maddison, Angus, 385 Mad Money, 295 Malthus, Thomas, 378, 389 Marc, 436 Marginally attached workers, 120 Marginal propensity to consume (MPC), 159–160, 162–164 Marginal propensity to save (MPS), 159–160 Market, competitive See Competitive market Market basket, 142–145, 147 purchasing power parity, 425–426 Market-clearing price, 66 See also Equilibrium price Market demand curve, 55 Market economy, Market equilibrium, 67 Market price, 67–69 Markets, 48 Markets, financial, 105 Market supply curve, 64 Martin, William McChesney, 255, 358 Mauritius, economic growth, 383 McCain, John, 393 McDonald’s, 54, 271–272 Big Mac index, 425–426 Montana, 124 McKinsey and Co., 370 MD (money demand curve), 270–273, 444 Medallions, taxicabs, 88–93 Medicaid, 203–204, 303–304 Medicare, 203–204, 303–304 Medium of exchange, 232 Mega Millions, 241 Menu costs, 136–137 Merchandise trade balance, 410–411 Mexico peso, exchange rate, 423–426 tortilla prices, 75 Michigan, unemployment rate, 124 Microeconomics, Microsoft, 227 Middle East, oil, 378 Minimum wage, 82–85 labor market, 128 structural unemployment, 129 Mirror test, 119 Mitchell, Wesley, 344 Model, 14 Moderate inflation, 327–329 Monetarism, 348–350, 355–357 Monetary aggregate, 234–235 Monetary base, 249–250, 266 Monetary neutrality, 317–319 Monetary policy, 177 aggregate demand, 309–310 asset prices, 358–359 central bank targets, 358 contractionary, 310, 313 demand/supply shocks, 200–201 discretionary, 348, 357–359 exchange rate, 437–438 expansionary, 310, 355–356 Federal Reserve System, 262–266 versus fiscal policy, 355–357 inflation, 310–313 interest rate, 307–313, 317–319 macroeconomic theories, 355–359 monetarism, 348–350 monetary neutrality, 317–319 money supply, 316–319 output, prices, 315 in practice, 310–313 recessions, 355–356 revival of, 347–348 unconventional, 359 unemployment reduction, 356 “Monetary Policy Matters” (Romer, Romer), 313 Monetary policy rule, 349 Money See also Monetary policy banks, 243–251 borrowing, lending, interest, 237–238 cash, 231, 235, 247–248 classical macroeconomics, 343 counterfeit, 221, 234, 265 currency, 231, 235, 243 defined, 231–232 demand for, 268–273 history of dollar, 234 holding, opportunity cost, 268–270 inflation, 321–327 interest rates, 273–275 measuring supply, 234–235 multiplier, 248–251 output, prices, 315–319 present value, 237–241 printing, 324 roles of, 232–233 seignorage, 324–326 time value, 237–241 types of, 233–234 Money demand curve (MD), 270–273, 444 Money market, 268–275, 444 Money multiplier, 248–251 Money supply, 231–232, 247–251 cash, checkable deposits, 247–248 Federal Reserve, 265–266, 273–274, 307–309 fixed, fiscal policy, 349 increase effects, 316–317 interest rate, 307–309, 317–319 money multiplier, 248–251 nominal, 322 price level, 321–324 Money supply curve (MS), 273–274, 444 Montana, unemployment rate, 124 Morgan, J P., 254–255 Movement along the demand curve, 51–52 Movement along the supply curve, 60–62 MPC (marginal propensity to consume), 159–160, 162–164 MPS (marginal propensity to save), 159–160 “Mr Keynes and the Classics: A Suggested Interpretation” (Hicks), 347 Mugabe, Robert, 326 Multiplier, 158–161 fiscal policy, 209–213 government policy influence, 209–213 government purchases of goods and services, 209–210 government transfers, 210–211 Great Depression, 161 money, 248–251 MPC, MPS, 159–160 stimulus package, 213 taxes, 210–212 Muth, John, 352 Mutual fund, 228 N NAIRU (nonaccelerating inflation rate of unemployment), 336–337 National accounts, 102–110 circular-flow diagram, 102–106 creation of, 113 Great Depression, 113 gross domestic product, 106–110 National Bureau of Economic Research (NBER), 11, 344 National income AD-AS model, 190–197, 199–207 aggregate demand, 172–177 aggregate supply, 179–188 consumer spending, 161–166 economic policy, 199–207, 209–213 expenditure, 158–170 investment spending, 166–170 multiplier, 158–161, 209–213 National Income, 1929-35 (Kuznets), 113 National income and product accounts, 102–110 See also National accounts National savings, 223 Natural gas, 63 Natural rate hypothesis, 350–351 Natural rate of unemployment, 126, 130–132, 328, 337–338 Natural resources, 378, 389–390 NBER (National Bureau of Economic Research), 11, 344 Near-moneys, 235 Negative demand shock, 172, 194–195 Negative externality, 392 Net exports, 108–109 Net present value, 240–241 New classical macroeconomics, 351, 356 New Jersey clam licenses, 92 New Keynesian economics, 352, 356 INDEX Newsprint, 62 New York City banks, 254 rent control, 78–82 taxicabs, 88–93 New York Clearinghouse, 254 New York Times, 75, 80 Nigeria, economic growth, 378–381 Nike, 416 Nixon, Richard, 351 Nominal exchange rate, 423–426, 429 Nominal gross domestic product (GDP), 114, 116 Nominal interest rate, 138, 282 Nominal money supply, 322 Nominal wage, 180, 183–185, 187 Nonaccelerating inflation rate of unemployment (NAIRU), 336–337 Normal good, 53 Normative economics, 5–7 North Korea, counterfeiting, 221 Nuclear power, 392 O Obama, Barack, 206, 260 Obesity, 84 Oil consumption, U.S., 391 crude versus gas, 63 Middle East, 378 prices, 182–183, 190, 193, 197, 334 real price of, 389–390 Olive Garden, 54 OPEC I, II, 197 Open economy balance of payments, 408–413 capital flows, 408–417 exchange rate regimes, 429–432, 435–439 foreign exchange rate, 419–427 macroeconomic policy, exchange rates, 435–439 Open-economy macroeconomics, 407 Open Market Desk, 273, 307 Open-market operation, 255, 264–266 Opportunity cost, 3–4, 19–20 holding money, 268–270 quantity control, 91 trade, 25 Organization of Petroleum Exporting Countries, 197 Other goods and services, 203 Other things equal (ceteris paribus) assumption, 14 Outflows, 223 Output, 12, 315–319 See also Actual output; Aggregate output; Potential output Output gap, 196 monetary policy, 311 unemployment rate, 328–329 Output per worker, 370 P Panic of 1907, 253–254 Pearl Harbor, 346 Pennies, Pension fund, 228 Pepsi, 48 Perfectly competitive markets, 180–181 Permanent income hypothesis, 166 Persistent surplus, 128 Peso, exchange rate, 423–426 Phelps, Edmund, 333, 350 Phillips, Alban W H., 331 Phillips curve long-run, 335–336 short-run, 331–335 Physical asset, 224 Physical capital, 222 aggregate demand curve, 176 aggregate production function, 374–378 diminishing returns to, 374–377 government, 387–388 growth rates, 385–386 productivity, 371 Pin-making, 23 Planned investment spending, 166–167 Political business cycle, 351 Pollution, 390–393 Poole, Bill, 295 Portugal, inflation, 101, 112 Positive demand shock, 194–195 Positive economics, 5–7 Positive supply shock See Supply shock Post-it note, 371 Potential output, 185–187 versus actual output, 186 output gap, 196 recessionary gap, 196 self-correcting, 195–196, 199 supply-side economics, 357 United States, 397 Pound (British currency), 435, 439 PPC (production possibilities curve), 16–21, 24–25 PPI (producer price index), 143, 145–146 Preferences, demand curve, 54 Prescott, Edward, 353 Present value, 237–241 Price ceilings, 77–82 apartment market, 78–82 black markets, 81 effects of, 79 inefficient allocation to consumers, 80 inefficiently low quality, 81 reason for, 81–82 wasted resources, 80–81 Price controls, 77–85 Price determination AD-AS model, 190–197, 199–207 aggregate demand, 172–177 aggregate supply, 179–188 consumer spending, 161–166 economic policy, 199–207, 209–213 income, expenditure, 158–170 investment spending, 166–170 multiplier, 158–161, 209–213 Price floors, 77, 82–85 agricultural, 82–84 effects of, 83 illegal activity, 85 inefficient allocation of sales among sellers, 84 inefficiently high quality, 85 inefficiently low quantity, 84 minimum wage, 82–85 reason for, 85 school lunches, 84 surplus, 83–84 wasted resources, 84–85 Price indexes, 142–147 Price level See also Aggregate price level classical macroeconomics, 343 classic model, 322–323 money supply, 321–324 Price shock, 190 Price stability, 13, 200, 310 Price support programs, 84 Pricing power, 181 Private savings, 105, 281, 415–416 Producer price index (PPI), 143, 145–146 Producers, supply curve, 63–64 Production capacity, 168 Production possibilities curve (PPC), 16–21, 24–25, 396–400 Production workers, pay, 12 Productivity, 27, 370–371 aggregate production function, 374–378 diminishing returns to physical capital, 374–377 information technology, 379 I-7 natural resources, 378 physical capital, 371 short-run aggregate supply curve, 183–184 technological progress, 371, 377–378 total factor, 377–378 Product markets, 103 Property rights, 388–389 Property tax, 202–203 Public debt, 300–302 Purchasing power parity, 425–426 Q Quantity control, 88–93 costs of, 92–93 deadweight loss, 90, 92 demand price, 89–90 New Jersey clams licenses, 92 quota rent, 91 supply price, 90 taxicab medallions, 88–93 wedge, 90–91 Quantity demanded, 49 Quantity supplied, 59 Quantity Theory of Money, 349 Quota, 88 See also Quantity control Quota rent, 91 R Rate of return, 278 Rational expectations, 352 R&D (research and development), 386–387 Reagan, Ronald, 357 Real business cycle theory, 352–353 Real exchange rate, 423–425 Real gross domestic product (GDP), 112–116 aggregate demand, 172–173, 175 calculating, 113–115 chain-linking, 115 defining, 112–115 fiscal policy, 210–211 versus GDP, 113 Great Depression, 161 investment spending, 168 money demand curve, 272 multiplier, 159–160, 210–211 versus nominal GDP, 114 potential output, 185–186 unemployment, 122–123 Real gross domestic product (GDP) per capita, 115 economic growth, 13, 366–368 long-run economic growth comparison, 379–383 productivity, 370–371 I-8 INDEX Real income, 135 Real interest rate, 138, 282 Real price of oil, 389–390 Real wage, 135 Recessionary gap, 195–196 expansionary fiscal policy, 205 Federal Reserve, 313 revaluation, 436 unemployment rate, 195, 328 Recessions, 10–11, 197 fiscal/monetary policy, 355–356 macroeconomic theories, 355–356 unemployment, 122 Reconstruction Finance Corporation (RFC), 256–257 Recovery See Expansions Re-entrants, 127 Regional Federal Reserve Banks, 255–256 Regulation Q, 257, 273 Rent control, 78–82 Required reserve ratio, 244 Research and development (R&D), 386–387 Reserve ratio, 244 Reserve requirements, 246, 263 Reserves, 248–249 Resources, 2–3 natural, 378 scarce, 2–3 wasted, 80–81, 84–85 Retained earnings, 167 Retirees, 119 Reuters, 305 Revaluation, 436–437 RFC (Reconstruction Finance Corporation), 256–257 Roast magazine, 54 Rockefeller, John D., 255 Rogoff, Kenneth, 351 Romer, Christina, 313 Romer, David, 313 Roosevelt, Franklin Delano, 245, 256, 346 Rosetta, 84 Rule of 70, 369 Russia bond default, 305 coffee, tea, 54 S Sachs, Jeffrey, 383 Sales tax, 202–203 Salt, Veruca, 239 Sanders, Bernie, 393 S&L (savings and loan), 257 Savings capital flow, 413, 415–416 investment spending, 222–224 private, 105, 281, 415–416 Savings and loan crisis of the 1980s, 257 Savings and loan (S&L, thrift), 257 Savings-investment spending identity, 222–224, 284 Scandinavian Sandwich, 85 Scarce, 2–3 School lunches, 84 Schumpeter, Joseph, 344 Schwartz, Anna, 347 Secret Service, 221 Securitization, 227, 259 Seignorage, 324–326 Self-correcting, 195–196, 199 Self-sufficiency, 23–24 Shifts of the aggregate demand curve, 174–177, 444 demand shock, 191–194 existing stock of physical capital, 176 expectation changes, 175 fiscal policy, 176–177 government policy, 176 government spending, 204 monetary policy, 177 rightward versus leftward shifts, 175 short-run effects, 191–192 wealth changes, 175–176 Shifts of the demand curve, 52–56, 444 effects, 71–72 equilibrium, 72 expectation changes, 54–55 income changes, 53–54 versus movement along the demand curve, 51–52 normal/inferior goods, 53–54 number of consumers, 55–56 related goods/services prices, 53 simultaneous supply curve shifts, 73–74 substitutes, complements, 53 taste changes, 54 Shifts of the money demand curve, 271–273, 444 Shifts of the short-run aggregate supply curve, 181–184, 444 commodity prices, 182–183 nominal wages, 183 productivity, 183–184 rightward versus leftward shifts, 182 supply shock, 192–194 Shifts of the supply curve, 60–65, 444 effects, 72–73 equilibrium, 73 expectation changes, 63 input prices, 62–63 versus movement along the supply curve, 62 number of producers, 63–64 related goods/services prices, 63 simultaneous demand curve shifts, 73–74 substitutes/complements in production, 63 technology changes, 63 Shocks, 438 demand, 172, 191–197, 200 price, 190 supply, 192–194, 197, 200–201, 332–333 Shoe-leather costs, 136–137 Shortage, 68–69 Short-run aggregate supply curve (SRAS) classic model of the price level, 322–323 Keynesian versus classical macroeconomics, 345 versus long-run, 186–187 long-run macroeconomic equilibrium, 194 money supply increase, 316–317 movement along, 181 shifts of, 181–184, 444 Short-run equilibrium aggregate output, 190–193 Short-run equilibrium aggregate price level, 190–193 Short-run fluctuations, economic growth, 400–401 Short-run macroeconomic equilibrium, 190–191 Short-run Phillips curve (SRPC), 331–335 expected inflation, 333–334 supply shocks, 332–333 Short-term interest rates, 268–270 Simple circular-flow diagram, 102–103 Smith, Adam, 23, 233 Smog, 391 Social insurance, 202–204 Social insurance taxes, 202–203 Social Security, 147, 203–204, 303–304 Social Security Administration, 304 Social Security trust fund, 304 Solar power, 392 Solow, Robert, 379 South Africa, monetary neutrality, 318 South Korea economic growth, 379–381 natural resources, 378 Spain, economic growth, 382 Specialization, 23–24 SRAS See Short-run aggregate supply curve SRPC (short-run Phillips curve), 331–335 Stabilization policy, 199–201, 357 Stagflation (stagnation plus inflation), 193, 334 Starbucks, 47–48, 53–55 Steel, 106–108 Stern, Nicholas, 392 Stewart, Jimmy, 245 Sticky wages, 180 2008 stimulus package, 211, 213 Stock, 104, 224, 227 Stock bubble, 359 Stock market crash, 175–176 Stock of physical capital, 176 Store of value, 232 Structural unemployment, 128–130, 132 Subletting, 80–81 Subprime lending, 258–259 Substitutes, 53, 57 Substitutes in production, 63 Supply and demand model, 47–56 demand curve, 49–56 equilibrium, 49–56, 66–69 equilibrium shifts, 71–74 exchange rate, 429 price controls, 77–85 quantity control, 88–93 supply curve, 59–65 Supply curve, 59–65 individual, 63–64 law of supply, 60 market, 64 movement along, 60–61 rightward versus leftward shifts, 61 shift effects, 72–73 shifts, 60–65, 444 supply schedule, 59–60 Supply price, 90 Supply schedule, 59–60 Supply shock, 192–194, 197 versus demand shock, 193–194, 197 economic policy, 200–201 short-run Phillips curve, 332–333 Supply-side economics, 357 Surplus, 68, 83–84 See also Budget surplus Survey of Current Business (Department of Commerce), 113 Sustainable, 389–393 Sweden, tax revenue, 202 Switzerland exchange rate, 425 monetary neutrality, 318 T T-account, 243–244 Target federal funds rate, 273, 307–309 INDEX Taste, demand curve, 54 Taxes, 202–205 cuts, 211 fiscal policy, 202–205 inflation, 324–325 lump-sum, 211 models, 14 multiplier, 210–212 revenue, 202–203, 212 stimulus package, 213 supply-side economics, 357 surcharge, 209 Taxicab medallions, 88–93 Taylor, John, 311–312 Taylor rule for monetary policy, 311–312 Tea, 49, 53–54, 71–72 Technology, 21 aggregate production function, 374–378 government, 388 information technology, 379 money demand curve, 272–273 productivity, 371, 377–378 research and development, 386–387 supply curve, 63 TED spread, 259–260 Tehachapi Wind Farm, 390 A Theory of the Consumption Function (Friedman), 165 Thought experiments, 14 Thrift, 257 Time lags, 206–207 Time value, money, 237–241 Tortillas, 75 Total factor productivity, 377–378 Tourism, 407 Tourist traps, 67 Toyota, jobs, 127 Trade, 23–29 Trade, international See Open economy Trade balance, 410–411 Trade-off, 16–21 Trade system, 232 Traffic, 57 Transaction costs, 225 Transfer payments, 409–410, 412 Transfers, government, 105, 203–205, 210–211 Treasury bills, 264–265, 324 Trusts, 254 Turkey, lira, 322 12 regional Federal Reserve Banks, 255–256 2008 stimulus package, 211, 213 Two-way capital flows, 416 U U6, 120 UAW (United Auto Workers), 129 Underemployed, 120 Unemployed, 119 Unemployment, 12 benefits, 130, 132 business cycle, 11–12 cyclical, 130, 328–329 duration distribution, 127 economic growth, 122–123 Federal Reserve, 313 frictional, 127–128, 130 job creation/destruction, 126–127 long-run Phillips curve, 335–336 macroeconomic theories, 356 natural rate, 126, 130–132, 328, 337–338 nonaccelerating inflation rate of, 336–337 real GDP, 122–123 recessions, 122 reduction, fiscal/monetary policy, 356 short-run Phillips curve, 331–335 structural, 128–130, 132 Unemployment rate, 12 versus actual unemployment, 119–121 alternative measures of, 121 budget deficit, 298 defining, measuring, 119 demographics, 120–121 inflation, 134, 328–329 inflationary gap, 328 natural, 126, 130–132, 328, 337–338 output gap, 328–329 recessionary gap, 195, 328 significance of, 119–121 United States, 11–12, 118–124, 126–132, 298, 332–338 United Auto Workers (UAW), 129 United Kingdom See Britain United Nations, 383 United Nations Climate Change Conference, 393 United States See also Federal entries; Government entries actual/potential output, 397 balance of payments, 409–413 banking system, 253–260 budget deficit, 296–304 business cycles, 11–12 carbon dioxide emissions, 392 clothing production, 27 consumer price index, 143–147, 337 debt, 296–304 deflation, 338–341 dollar, 234, 407, 419–426 economic growth, 13, 365–371 exchange rate, 431–432 Federal Reserve System, 253–260, 262–266 government spending, 202–204 gross domestic product, 13, 106–110, 367, 382 housing boom, 157, 169, 258–259 housing bubble, 258–259, 358–359, 416 inflation, 12, 135–139, 321, 332–338 international capital flows, 415–417 loanable funds market, 414 monetary neutrality, 318 money system, 233–235 national accounts, 102–110 natural resources, 378 oil consumption, 391 price floors, surplus, 82–84 producer price index, 143, 145–146 recessions, 10–11, 197 taxes, 202–204 unemployment, 11–12, 118–124, 126–132, 298, 332–338 unemployment benefits, 130 United States Census Bureau, 119 United States Treasury, 265, 324 United States Treasury bills, 264–265, 324 Unit of account, 233 Unit-of-account costs, 137–138 Unplanned inventory investment, 169–170 Unplanned investment spending, 168–170 Uruguay, economic growth, 381 U.S See United States Used goods, 110 V Value added, 107 Value-added tax, Velocity of money, 349–350 Venezuela, GDP, 116 Veterinarians, 65 I-9 Vicious cycle of deleveraging, 258 Vietnam, coffee, 47, 61, 71–73 Volcker, Paul, 134 W Wage, minimum, 82–85 Wages, 180, 183–185, 187 Wall Street Journal, 357 Walmart, 379 Walmart effect, 370 Wampum, 234 Wasted resources, 80–81, 84–85 Wealth, 166, 175–176, 224 Wealth effect of a change in the aggregate price level, 174 The Wealth of Nations (Smith), 23, 233 Wedge, 90–91 Western Europe, economic growth, 382 Wholesale price index See Consumer price index Willy Wonka and the Chocolate Factory, 239 Wind energy, 390, 392 Wind tunnels, 14 Women, in labor force, 131, 370 Woods, Tiger, Worker compensation See Wages Works Progress Administration (WPA), 212 World Health Organization, 383 World War II cigarette exchange, 14, 232–233 federal debt, 303 Great Depression, 177, 346 inflation, 340 WPA (Works Progress Administration), 212 Wright bothers, 14 Y Yen, exchange rates, 419–420 Yuan, exchange rate, 432, 436–437 Z Zero bound, 339–341 Zero interest rate policy (ZIRP), 341 Zimbabwe economic growth, 369 inflation, 137, 321, 323–324, 326 ZIRP (zero interest rate policy), 341 Zones of recent settlement, 417 ... KRUGMAN’S MACROECONOMICS for AP* Margaret Ray and David Anderson University of Mary Washington Centre College Adapted from Macroeconomics, Second Edition by Paul Krugman and Robin Wells *AP is a... course can be applied to answer real-world questions, like the type they will see on the AP exam The AP Edition: What’s Different? Perhaps the most important feature of the AP adaptation of Economics... needs of AP Economics teachers and students Here are the major adaptations: Close Adherence to the AP Topic Outline and Terminology We have carefully followed the AP Topic Outline for Macroeconomics